Due to the asset-liability transition, FIs are typically subject to credit and market risks. The risks, particularly the market risks, associated with the operations of FIs have grown to be complex and significant as a result of the recent liberalization of the financial markets and the increasing integration of domestic markets with external markets. This requires strategic management. FIs must dynamically decide interest rates on a variety of products in their portfolios of obligations and assets, in both domestic and international currencies, as they operate in a relatively unregulated environment. The management of FIs is under pressure to maintain a healthy balance between spreads, profitability, and long-term survival due to intense rivalry for business involving both assets and liabilities and rising domestic interest rate and foreign exchange rate volatility. These demands necessitate institutionalizing an integrated risk management strategy through systematic and comprehensive methods rather than sporadic activity.
The
fact that the FIs are subject to a number of significant risks during the course of their operations—
generally
categorized as credit risk, market risk, and operational risk—underscores the
importance
of having efficient risk management systems in
FIs.
By improving the standard of their risk management and implementing more extensive ALM practices than they have
in the
past, the
FIs
must address these risks
in a structured
way. By measuring, monitoring, and managing a FI's liquidity, exchange
rate, and interest rate
risks—risks that must be tightly linked with the FIs' business strategy—the proposed ALM system aims to establish a structured framework
for managing market
risks. This note lays
forth general guidelines
for
FIs with regard to
systems for
managing
interest rate,
exchange rate, and liquidity risks, all of which are a component
of the ALM role. The market
risk management discipline, or managing business after
considering the
market risks
involved, would be the initial emphasis of the ALM department. A
solid risk management system
should aim to develop into
a tactical device
for efficient management of FIs.
The ALM process rests
on three pillars:
• ALM
Information System
Ø Management Information
System
Ø Information availability, accuracy, adequacy and expediency
• ALM Organisation
Ø Structure
and responsibilities
Ø Level of top management involvement
• ALM Process
Ø Risk parameters
Ø Risk identification
Ø Risk measurement
Ø Risk management
Ø Risk policies
and
tolerance levels